How to Account For Accumulated Depreciation

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Accumulated depreciation is the total depreciation for a fixed asset that has been charged to expense since that asset was acquired and made available for use. The accumulated depreciation account is an asset account with a credit balance (also known as a contra asset account); this means that it appears on the balance sheet as a reduction from the gross amount of fixed assets reported.

The amount of accumulated depreciation for an asset will increase over time, as depreciation continues to be charged against the asset. The original cost of the asset is known as its gross cost, while the original cost of the asset less the amount of accumulated depreciation and any impairment is known as its net cost or carrying amount.

The balance in the accumulated depreciation account will increase more quickly if a business uses an accelerated depreciation methodology, since doing so charges more of an asset’s cost to expense during its earlier years of usage.

When the asset is eventually retired or sold, the amount in the accumulated depreciation account relating to that asset is reversed, as is the original cost of the asset, thereby eliminating all record of the asset from the company’s balance sheet. If this derecognition were not completed, a company would gradually build up a large amount of gross fixed asset cost and accumulated depreciation on its balance sheet.

Calculating accumulated depreciation is a simple matter of running the depreciation calculation for a fixed asset from its acquisition date to its disposition date. However, it is useful to spot-check the calculation of the depreciation amounts that were recorded in the general ledger over the life of the asset, to ensure that the same calculations were used to record the underlying depreciation transaction.

For example, ABC International buys a machine for $100,000, which it records in the Machinery fixed asset account. ABC estimates that the machine has a useful life of 10 years and will have no salvage value, so it charges $10,000 to depreciation expense per year for 10 years. The annual entry, showing the credit to the accumulated depreciation account, is:

After 10 years, ABC retires the machine, and records the following entry to purge both the asset and its associated accumulated depreciation from its accounting records:

This article is going to identify how to account for accumulated depreciation using different methods. In the organizational point of view, it is so important to know about the ways of accounting for depreciation as there are many fixed assets like buildings, office equipments and machines, furniture which are depreciated over time. Therefore, in the following sections it is expected to elaborate on the useful concepts related with the depreciation.

What is Depreciation?

The initial value of a fixed asset at the time of acquisition decreases with the usage over a specific time period. That value difference can be defined as depreciation. Depreciation can be calculated using various formulas as follows:

• Straight Line Method
• Reducing Balance Method
• Sum of the years’ digits method

Straight Line Method

In this method, equal or constant amount is charged as the depreciation over the estimated useful life of a fixed asset. The depreciation value can be calculated using the below formula:

Depreciation = (Cost – Residual Value) / Useful Life

Reducing Balance Method

The depreciation amount that needs to be charged reduces over a period . The depreciation value can be calculated using the following formula:

Depreciation = (Cost – Accumulated Depreciation) * Depreciation Rate

Sum of the Years Digits Method

The depreciation value is charged concerning the asset’s expected useful life. This method is almost similar to the reducing balance method. Below formula can be used to calculate the value of depreciation.

Depreciation = (Cost – Salvage Value) * Fraction

What is Accumulated Depreciation?

The addition of depreciation (expressed above) which is calculated over a period can be defined as accumulated depreciation. The accumulated depreciation related to a fixed asset increases with time and it is an expense for an organization.

How to Account for Accumulated Depreciation?

The double entry to account for accumulated depreciation can be illustrated as follows:

According to the above double entry, the accumulated depreciation amount is recorded in the balance sheet by deducting it from the initial price/ cost of the fixed asset and therefore the Accumulated Depreciation account is identified as a contra account.

After disposing of the fixed asset, the double entry can be recorded as follows:

At the time of disposal if the fixed asset is not fully depreciated, the loss will be reduced with the proceeds from the sale of the asset. As an example, XY Company has bought a machine for $100,000 and the estimated useful life is 10 years. The annual depreciation amount is, $10,000 and the machine will be disposed after 10 years. The accounting records can be illustrated as follows:

The depreciation of the machine can be recorded as follows:

The disposal of the machine after 10 years, can be recorded as follows:

What is Accumulated Depreciation?

Accumulated depreciation is the total amount of depreciation expense allocated to a specific asset PP&E (Property, Plant and Equipment) PP&E (Property, Plant, and Equipment) is one of the core non-current assets found on the balance sheet. PP&E is impacted by Capex, Depreciation, and Acquisitions/Dispositions of fixed assets. These assets play a key part in the financial planning and analysis of a company’s operations and future expenditures since the asset was put into use. It is a contra-asset account – a negative asset account that offsets the balance in the asset account it is normally associated with.

Unlike a normal asset account, a credit to a contra-asset account increases its value while a debit decreases its value. Whenever depreciation expense is recorded for an organization, the same amount is also credited to the accumulated depreciation account, allowing the company to show both the cost of the asset and total depreciation of the asset. This also shows the asset’s net book value on the balance sheet Balance Sheet The balance sheet is one of the three fundamental financial statements. These statements are key to both financial modeling and accounting. The balance sheet displays the company’s total assets, and how these assets are financed, through either debt or equity. Assets = Liabilities + Equity .

Financial analysts will create a depreciation schedule Depreciation Schedule A depreciation schedule is required in financial modeling to link the three financial statements (income, balance sheet, cash flow) in Excel when performing financial modeling What is Financial Modeling Financial modeling is performed in Excel to forecast a company’s financial performance. Overview of what is financial modeling, how & why to build a model. to track the total depreciation over an asset’s life.

Video Explanation of Accumulated Depreciation

Watch this short video to quickly understand the main concepts covered in this guide, including what accumulated depreciation is and how depreciation expenses are calculated.

Example

XYZ Company purchased equipment on January 1, 2015 for $100,000. The equipment has a residual value of $20,000 and has an expected useful life of 8 years. On December 31, 2017, what is the balance of the accumulated depreciation account?

($100,000 – $20,000) / 8 = $10,000 in depreciation expense per year

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Debiting Accumulated Depreciation

In most scenarios, we credit the accumulated depreciation account because, as time passes, the company records the depreciation expense that is accumulated in the contra-asset account. However, there are situations when the accumulated depreciation account is debited or decreased. For example, let’s say an asset has been used for 5 years and has an accumulated depreciation of $100,000 in total. After the 5-year period, if the company were to sell the asset, the account would need to be zeroed out because the asset is not relevant to the company anymore. Therefore, there would be a credit to the asset account, a debit to the accumulated depreciation account, and a gain or loss depending on the fair value of the asset and the amount received.

Accumulated Amortization/Depletion

Accumulated amortization and accumulated depletion work in the same way as accumulated depreciation; they are all contra-asset accounts. The naming convention is just different depending on the nature of the asset. For tangible assets such as property or plant and equipment, it is referred to as depreciation. For intangible assets such as patents, licenses, or trademarks, it is referred to as amortization, and for natural resources-related assets such as mines or oil platforms, depletion is the official terminology. When amortization or depletion expense is recorded for the year, the corresponding accumulated contra-asset accounts are credited in order to account for the expense.

Related Readings

We hope you enjoyed reading our explanation of accumulated depreciation. CFI offers a wealth of free resources on financial analysis and accounting, including the following:

• Depreciation Expense
• Depreciation Schedule Depreciation Schedule A depreciation schedule is required in financial modeling to link the three financial statements (income, balance sheet, cash flow) in Excel
• Projecting Income Statement Line Items Projecting Income Statement Line Items We discuss the different methods of projecting income statement line items. Projecting income statement line items begins with sales revenue, then cost
• Income Statement Template

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How to Keep Vehicle Mileage Tax Records

Car depreciation is an unavoidable part of vehicle ownership and the cost per mile to drive might actually be more than you think. If you are using your vehicle for business purposes and putting additional mileage on it, you may find that the wear and tear on a car is greater than if it were reserved solely for personal use. However, it is possible to reclaim some of that value by tracking your mileage and reporting it and depreciation along with your income tax return. In addition, having a sense ahead of time for car depreciation per mile can help to avoid surprises if you intend to re-sell your vehicle in a few years’ time.

Car Depreciation Per Mile

The average car can depreciate as much of $0.08 per mile, according to some sources. This means, of course, that your depreciation costs will be higher the more you drive. The wear and tear on your car and costs per mile will vary depending on where you travel and the conditions of the road, including its physical state, the weather and if the roads move at highway speeds or deal with heavy traffic. Car depreciation costs take into consideration the tires, internal workings and body parts. When you take into account the addition of things like oil changes and gasoline costs, the cost per mile to drive rises to about $0.26.

Most cars lose 40% of their value within the first year, though they can lose as little as 10% depending on the level of use and proper maintenance. If you drive around 10,000 miles per year, your car will lose 60% of its value in the first three years.

Tracking Mileage for Tax Purposes

As of 2018, you are permitted to deduct mileage traveled for business purposes in your personal vehicle on your income taxes in most instances, but the cost per mile to drive varies. This is particularly true of 1099 employees, but those who are W2 workers may also be eligible depending on their circumstances. Careful record-keeping is key, however, to guard against any potential audit.

Any trip that is taken for business, including those to meet with clients, purchase office supplies or other non-commuting tasks, are eligible for mileage deduction. If you drive to and from an office each day, note that it is not possible to deduct those miles on your taxes.

The IRS states that your mileage log must include the dates of your trip, your purpose for the outing, where you drove and, of course, your mileage itself. It might be helpful to track your starting and ending odometer readings, in addition to the number of actual miles you drove. You may also be expected to report to the IRS the number of miles you drove for commuting or personal use, though you will not get reimbursed for them.

To track your mileage, it’s best to rely on one dedicated system to help you stay organized. An electronic document on your phone or laptop, a notebook or an app specifically designed to keep mileage records are good methods to ensure you won’t miscalculate or misplace any records.

Average Depreciation Per Year

The average depreciation of your vehicle is significant. The average vehicle will lose $15,000 in the first five years of ownership. This indicates an average of between $2,000-and-$6,000 per year. Who knew the value of wear and tear on a car was so great? Small sedans and small SUVs tend to be at the lower end of the scale, whereas vans and electric cars are more often found at the higher end.

What is Accumulated Depreciation?

The accumulated depreciation of an asset is the amount of cumulative depreciation that has been charged on the asset since the date of its purchase until the reporting date. It is a contra-account, which is the difference between the purchase price of the asset and its carrying value on the balance sheet and is easily available as a line item under the fixed asset section in the balance sheet.

Accumulated Depreciation Formula

The calculation is done by adding the depreciation expense charged during the current period to the depreciation at the beginning of the period while deducting the depreciation expense for a disposed asset.

Examples

Let’s see some simple to advanced examples to understand the calculation better.

Example #1

Let us consider the example of company A that bought a piece of equipment that is worth $100,000 and has a useful life of 5 years. The equipment is not expected to have any salvage value at the end of its useful life. The equipment is to be depreciated on a straight-line method. Determine the accumulated depreciation at the end of 1 st year and 3 rd year.

Below is data for calculation of the accumulated depreciation at the end of 1 st year and 3 rd year.

Since the company will use the equipment for the next 5 years, the cost of the equipment can be spread across the next 5 years. The annual depreciation for the equipment as per the straight-line method can be calculated as,

Annual depreciation = $100,000 / 5 = $20,000 a year over the next 5 years.

Therefore, the calculation after 1 st year will be –

Accumulated depreciation formula after 1 st year = Acc depreciation at the start of year 1 + Depreciation during year 1

= $20,000

Therefore, after 2 nd year it will be –

Accumulated depreciation formula after 2 nd year = Acc depreciation at the start of year 2 + Depreciation during year 2

= $40,000

Therefore, after 3 rd year it will be –

Accumulated depreciation formula after 3 rd year = Acc depreciation at the start of year 3 + Depreciation during year 3

= $60,000

Example #2

Let us calculate the accumulated depreciation at the end of the financial year ended December 31, 2018, based on the following information:

• Gross Cost as on January 1, 2018: $1,000,000
• Acc depreciation as on January 1, 2018: $250,000
• Equipment worth $400,000 with acc depreciation of $100,000 has been disposed of on January 1, 2018
• The machinery is to be depreciated on the straight-line method over its useful life (5 years)

Below is the data for calculation of accumulated depreciation at the end of the financial year ended December 31, 2018

As per the question, Depreciation during a year will be calculated as,

Depreciation during a year = Gross cost / Useful life

Depreciation during a year= $200,000

Therefore, calculation of Accumulated depreciation as on December 31, 2018, will be,

Accumulated depreciation as on December 31, 2018, = Acc depreciation as on January 1, 2018, + Depreciation during a year – Acc depreciation for asset disposed of

Accumulated depreciation as on December 31, 2018= $250,000 + $200,000 – $100,000

Relevance and Use

From the point of view of accounting, accumulated depreciation is an important aspect as it is relevant for assets that are capitalized. Assets that are capitalized provide value not only for a year but for more than one year, and accounting principles prescribe that expenses and the corresponding sales should be recognized in the same period according to the matching concept. To cater to this matching principle in case of capitalized assets, accountants across the world use the process called depreciation.

Depreciation expense is a portion of the total capitalized asset that is recognized in the income statement from the year it is purchased, and for the rest of the useful life of the asset. Subsequently, it is the total amount of the asset that has been depreciated from the date of its purchase to the reporting date. The amount of accumulated depreciation for an asset increases over the lifetime of the asset, as depreciation expense continues to be charged against the asset, which eventually decreases the carrying value of the asset. As such, it can also help an accountant to track how much useful life is remaining for an asset.

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Accumulated Depreciation Journal Entry Meaning

An accumulated depreciation journal entry is the journal entry passed by the company at the end of the year. It is done to adjust the book values of the different capital assets of the company and adding the depreciation expense of the current year to the accumulated depreciation account where the depreciation expenses account will be debited. The accumulated depreciation account will be credited in the books of accounts of the company.

Recording Journal Entry of Accumulated Depreciation

At the end of every year, fixed assets of the company are depreciated by charging the depreciation expenses. This depreciation expense adds the balance of the accumulated depreciation account. It does not directly credit the cost of the respective asset because, as per the requirement of the accounting standards, companies require to show the cost as well as the related accumulated depreciation of the fixed asset in the financial statements of the company.

To record such depreciation on the fixed assets in the books of accounts of the company, depreciation expenses account is debited, and the accumulated depreciation account is credited. The entry to record accumulated depreciation is as below:

Now, when the company sells or disposes of the asset, then this balance of the accumulated depreciation account will be written off along with the cost of the asset. The entry to record the same is as follows:

Example of Accumulated Depreciation Journal Entry

There is a company, A ltd having the plant and machinery. At the beginning of the accounting year 2018, the balance of the plant and machinery account was $7,000,000, and the balance of the accumulated depreciation account was $3,000,000. During the year, no purchases and sales were made by the company concerning its plant and machinery. Using the straight-line method every year company charges depreciation of $1,000,000 in the books of accounts.

Pass the necessary journal entry in the company’s books of accounts to record the depreciation and accumulated depreciation at the end of the accounting year 2018?

Solution:

The depreciation expense of the company for the current year is $1,000,000 as per the straight-line method. In the year there were no purchases and sales were made by the company concerning its plant and machinery, so no adjustments are required to be made. At the end of the accounting year entry to record the depreciation and accumulated depreciation is as follows:

Advantages

The different advantages related to the accumulated depreciation journal entry are as follows:

• It helps in recording all the transactions involving the depreciation of all of the fixed assets of the company thereby keeping track of the same;
• The accumulated depreciation journal entry credits the accumulated depreciation account every year with the yearly depreciation figure, the balance of which is shown in the financial statements of the company. This company can get to know the amount of the total depreciation expense which already has been charged by the company on its assets since its purchase date;

Disadvantages

The different disadvantages related to the accumulated depreciation journal entry are as follows:

• For the companies having a large number of assets, it becomes time-consuming to record every entry related to the accumulated depreciation.
• As there is the involvement of the humans for recording the accumulated depreciation journal entry, there are chances of error in it.

Important Points

The different important points are as follows:

• Accumulated depreciation is the contra asset account, i.e., an asset account having the credit balance, which adjusts the book value of capital assets.
• Accumulated depreciation balance shows the amount of the total depreciation expense, which has already been charged by the company on its assets since its purchase date. The balance of the accumulated depreciation account increases every year with the depreciation charge of the current year. To record the same, depreciation expenses account will be debited, and the accumulated depreciation account will be credited in the books of accounts of the company.
• The yearly depreciation expense adds the balance of the accumulated depreciation account. It does not directly credit the cost of the respective asset because, as per the requirement of the accounting standards, companies are required to show the cost of the fixed assets as well as the related accumulated depreciation of that asset in the financial statements of the company.
• Every year as the entry is passed to record the accumulated depreciation, the balance of the accumulated depreciation account increases, which leads to the decrease in book value of fixed assets of the company until the book value of the asset becomes zero. Once the balance of the asset account becomes zero, then further no entry concerning the accumulated depreciation of that asset will be passed as the accumulated depreciation account balance cannot be more than that of the balance of the respective asset account.

Conclusion

Thus the accumulated depreciation journal entries are recorded in the company’s books of accounts when depreciation expenses account will be debited, and the accumulated depreciation account will be credited. They credit the accumulated depreciation account every year with the yearly depreciation figure, the balance of which is shown in the financial statements of the company. By this, the company gets to know the total depreciation expense which has been charged by the company on its assets since its purchase, thereby helping the concerned person in keeping track of the same.

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Calculator Use

Use this calculator to calculate the simple straight line depreciation of assets.

Inputs

Sample Full Depreciation Schedule

Cost: $11,000.00, Salvage: $1,000.00
Life: 5 years, Convention: Full-Month
First Year: 8 months

Straight-Line Depreciation Formula

The straight line calculation, as the name suggests, is a straight line drop in asset value. The depreciation of an asset is spread evenly across the life.

• Depreciation in Any Period = ((Cost – Salvage) / Life)
• Partial year depreciation, when the first year has M months is taken as:
  • First year depreciation = (M / 12) * ((Cost – Salvage) / Life)
  • Last year depreciation = ((12 – M) / 12) * ((Cost – Salvage) / Life)
  • And, a life, for example, of 7 years will be depreciated across 8 years.

Straight-Line Depreciation Example

Suppose an asset for a business cost $11,000, will have a life of 5 years and a salvage value of $1,000.

• Depreciation in Any 12 month Period = (($11,000 – $1,000) / 5 years) = $10,000 / 5 years = $2,000/ year.

Microsoft® Excel® Functions Equivalent: SLN

The Excel equivalent function for Straight-Line Method is SLN(cost,salvage,life) will calculate the depreciation expense for any period. For a more accelerated depreciation method see, for example, our Double Declining Balance Method Depreciation Calculator.

(Microsoft® and Excel® are registered trademarks of Microsoft Corporation)

Accumulated depreciation is the total amount a company depreciates its assets, while depreciation expense is the amount a company’s assets are depreciated for a single period. Essentially, accumulated depreciation is the total amount of a company’s cost that has been allocated to depreciation expense since the asset was put into use.

What Is Accumulated Depreciation?

The accumulated depreciation account is a contra asset account on a company’s balance sheet, meaning it has a credit balance. It appears on the balance sheet as a reduction from the gross amount of fixed assets reported.

The amount of accumulated depreciation for an asset or group of assets will increase over time as depreciation expenses continue to be credited against the assets. When an asset is eventually sold or put out of use, the accumulated depreciation associated with that asset will be reversed, eliminating all record of the asset from the company’s balance sheet.

What Are Depreciation Expenses?

Depreciation expenses, on the other hand, are the allocated portion of the cost of a company’s fixed assets that are appropriate for the period. Depreciation expense is recognized on the income statement as a non-cash expense that reduces the company’s net income. For accounting purposes, the depreciation expense is debited, and the accumulated depreciation is credited.

It is considered a non-cash expense because the recurring monthly depreciation entry does not involve a cash transaction. Because of this, the statement of cash flows prepared under the indirect method adds the depreciation expense back to calculate cash flow from operations. Typical depreciation methods can include straight line, double-declining balance, and units of production.

Depreciation and Accumulated Depreciation Example

The straight line method charges the same amount every year as depreciation, calculated as:

As an example, Company ABC bought a piece of equipment for $250,000 at the start of the year. The equipment’s residual value is $25,000, with an expected useful life of 10 years. The yearly depreciation expense using straight-line depreciation would be $22,500 per year.

Each year, $22,500 is added to the accumulated depreciation account. At the end of year five, the accumulated depreciation amount would equal $112,500, or $22,500 in yearly depreciation multiplied by five years.

Accumulated Depreciation and Book Value

Accumulated depreciation is used in calculating an asset’s net book value. This is the amount a company carries an asset on its balance sheet. Net book value is the cost of an asset subtracted by its accumulated depreciation. For example, a company purchased a piece of printing equipment for $100,000 and the accumulated depreciation is $35,000, then the net book value of the printing equipment is $65,000.

Accumulated depreciation cannot exceed an asset’s cost. If an asset is sold or disposed of, the asset’s accumulated depreciation is removed from the balance sheet. Net book value, however, isn’t necessarily reflective of the market value of an asset.

Depreciation Method Examples

Beyond the straight-line method, there’s also the declining balance method. This is the only other depreciation method allowed by the Internal Revenue Service (IRS) for tax purposes. The declining balance method is calculated as:

If using the double-declining balance method (DDB), which is arguably the most popular, the depreciation rate in the above formula is 2. For example, a company purchases a piece of printing equipment for $100,000. The salvage value is $20,000 and its useful life is 10 years.

Year 1 depreciation expense using the DDB method would be: ($100,000 – $20,000) x (1 / 10) x 2 = $16,000. Year 2 depreciation expense would be: ($84,000 – $20,000) x (1 / 10) x 2 = $12,800.

Meanwhile, under the straight-line method, the depreciation expense in the above example would be $8,000 per year, or ($100,000 – $20,000) / 10. At the end of Year 2, the accumulated depreciation under the DDB method would be $28,800 while under the straight-line method it would be $16,000. However, the annual depreciation amount under the DDB method is smaller in later years. It’s generally used for assets that lose their value quickly, such as computers.

Home » Online Accounting Course » Accumulated Depreciation Journal Entry

An accumulated depreciation journal entry is an end of the year journal entry used to add the current year depreciation expense to the existing accumulated depreciation account.

The accumulated depreciation account represents the total amount of depreciation that the company has expensed over time. Each year when the accumulated depreciation journal entry is recorded, the accumulated depreciation account is increased.

Accumulated depreciation is a contra asset account (an asset account with a credit balance) that adjusts the book value of the capital assets. So if a fixed asset that was purchased for $100,000 has $90,000 of accumulated depreciation, the book value of this asset would only be $10,000.

Each year as the accumulated depreciation increases, the book value of the fixed asset decreases until the book value is zero. In other words, the accumulated deprecation account can never be more than the asset account. In the example above, accumulated deprecation could never be more than $100,000. When the accumulated depreciation equals the asset purchase price, the book value is zero and the asset can no longer be depreciated.

The accumulated depreciation journal entry is recorded by debiting the depreciation expense account and crediting the accumulated depreciation account.

Accumulated Depreciation Journal Entry Example

Construction Bob’s, Inc. recently purchased a new car that cost $5,000 for making deliveries and picking up new supplies. This car’s useful life is 5 years and Bob expects the salvage value to be zero. The car is depreciated at a rate of $1,000 a year. At the end of this year, Bob will record this accumulated depreciation journal entry.

Definition of Accumulated Depreciation

Accumulated depreciation is the total amount of a plant asset’s cost that has been allocated to depreciation expense (or to manufacturing overhead) since the asset was put into service. Accumulated depreciation (and the related depreciation expense) are associated with constructed assets such as buildings, machinery, office equipment, furniture, fixtures, vehicles, etc.

Accumulated Depreciation is also the title of the contra asset account. Accumulated Depreciation is credited when Depreciation Expense is debited each accounting period.

Subtracting accumulated depreciation from an asset’s cost results in the asset’s book value or carrying value. Hence, the credit balance in the account Accumulated Depreciation cannot exceed the debit balance in the related asset account.

Example of Accumulated Depreciation

Assume that a company purchased a delivery vehicle for $50,000 and determined that the depreciation expense should be $9,000 for 5 years. Each year the account Accumulated Depreciation will be credited for $9,000. Since this is a balance sheet account, its balance keeps accumulating. Therefore, after three years the balance in Accumulated Depreciation will be a credit balance of $27,000 and the vehicle’s book value will be $23,000 ($50,000 minus $27,000).

It is important to note that an asset’s book value does not indicate the vehicle’s market value since depreciation is merely an allocation technique.

If the vehicle is sold, both the vehicle’s cost and its accumulated depreciation at the date of the sale will be removed from the accounts. If the amount received is greater than the book value, a gain will be recorded. If the amount received is less than the book value, a loss is recorded.

Accounting CPE Courses & Books

The accounting for depreciation requires an ongoing series of entries to charge a fixed asset to expense, and eventually to derecognize it. These entries are designed to reflect the ongoing usage of fixed assets over time.

Depreciation is the gradual charging to expense of an asset’s cost over its expected useful life. The reason for using depreciation to gradually reduce the recorded cost of a fixed asset is to recognize a portion of the asset’s expense at the same time that the company records the revenue that was generated by the fixed asset. Thus, if you charged the cost of an entire fixed asset to expense in a single accounting period, but it kept generating revenues for years into the future, this would be an improper accounting transaction under the matching principle, because revenues are not being matched with related expenses.

In reality, revenues cannot always be directly associated with a specific fixed asset. Instead, they can more easily be associated with an entire system of production or group of assets.

The journal entry for depreciation can be a simple entry designed to accommodate all types of fixed assets, or it may be subdivided into separate entries for each type of fixed asset.

The basic journal entry for depreciation is to debit the Depreciation Expense account (which appears in the income statement) and credit the Accumulated Depreciation account (which appears in the balance sheet as a contra account that reduces the amount of fixed assets). Over time, the accumulated depreciation balance will continue to increase as more depreciation is added to it, until such time as it equals the original cost of the asset. At that time, stop recording any depreciation expense, since the cost of the asset has now been reduced to zero.

For example, ABC Company calculates that it should have $25,000 of depreciation expense in the current month. The entry is:

In the following month, ABC’s controller decides to show a higher level of precision at the expense account level, and instead elects to apportion the $25,000 of depreciation among different expense accounts, so that each class of asset has a separate depreciation charge. The entry is:

Depreciation is considered an expense, but unlike most expenses, there is no related cash outflow. This is because a company has a net cash outflow in the entire amount of the asset when the asset was originally purchased, so there is no further cash-related activity. The one exception is a capital lease, where the company records it as an asset when acquired but pays for the asset over time, under the terms of the associated lease agreement.

Finally, depreciation is not intended to reduce the cost of a fixed asset to its market value. Market value may be substantially different, and may even increase over time. Instead, depreciation is merely intended to gradually charge the cost of a fixed asset to expense over its useful life.

Depreciation and a number of other accounting tasks make it inefficient for the accounting department to properly track and account for fixed assets. They reduce this labor by using a capitalization limit to restrict the number of expenditures that are classified as fixed assets. Any expenditure for which the cost is equal to or more than the capitalization limit, and which has a useful life spanning more than one accounting period (usually at least a year) is classified as a fixed asset, and is then depreciated.